WASHINGTON--Supreme Court justices cast a critical eye Tuesday on entertainment industry proposals for quashing file swapping, while making clear they had little sympathy for ongoing piracy on peer-to-peer networks.

Attorneys for the major record labels and Hollywood studios argued in front of the court in one of the most closely watched copyright cases in decades, which many observers say could help set the ground rules in the entertainment and technology industries for years to come.

The justices were clear that they were concerned about the effect of their ruling on the ability of technology companies to create future products like Apple Computer's iPod. However, several appeared to seek a way of holding file-swapping companies responsible for the piracy on their networks without endangering other technology companies.

Allowing companies to issue products with no concern for copyright infringement would amount to "unlawful expropriation of property as a kind of start-up capital," said Justice Anthony Kennedy. "From an economic standpoint and legal standpoint, that sounds wrong."

The case, which pits big labels and studios against file-trading software companies Grokster and StreamCast Networks, is the culmination of five years of legal battles against the peer-to-peer networks that entertainment companies believe are undermining the viability of copyrights.

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As influential as the case is likely to be, few believe the issue will end with the Supreme Court, whose decision is expected in June. Many observers expect the losing side to take its case to Congress after the court rules.

Throughout much of the hour-long hearing, several of the justices appeared concerned about the implications of the entertainment industry's proposal, backed by the U.S. Solicitor General's Office, that companies whose business is supported "predominantly" by copyright infringement be held liable for the piracy.

Technology companies such as Intel have argued that this standard could freeze innovation, as developers begin to fear the threats of lawsuits based on unforeseen or unauthorized uses of their products.

Justice Stephen Breyer focused heavily on the iPod music player, which he noted was probably used by many people to hold songs downloaded for free. The MP3 player, the Xerox machine, and even Gutenberg's press all had "vast numbers of infringing uses that would be foreseeable" at the time of the product's release, he said.

Harm for start-ups?
Justice Antonin Scalia asked the government's attorney, who argued in alliance with the entertainment companies, how long a start-up venture would probably have before facing lawsuits.

"What I worry about is a suit that comes right out of the box," Scalia said.

Despite this concern about establishing new copyright rules, several of the justices sought information on alternative ways to hold Grokster and StreamCast responsible for the widespread piracy.

Record labels and movie studios have long argued that Grokster and StreamCast, the parent of the Morpheus service, have deliberately built their businesses on the existence of
widespread copyright infringement. They're asking the Supreme Court to rule that any company whose business is predominantly supported by piracy should be liable for that infringement.

The case has sparked strong emotions across the country, with technology companies and artists each contending that their livelihoods and freedom to innovate are at risk. Dueling protesters lined the sidewalks outside the court building before the hearing got under way. Supporters of file sharing wore black T-shirts and carried signs proclaiming "Save Betamax" and "RIAA keep your hands off my iPod."

A group of 18 singer-songwriters from Nashville, Tenn., carried guitars and signs reading "Feed a musician. Download legally."

"We're here to give a face to people being hurt by illegal downloads," said Erin Enderlin, one of the songwriters. "When we don't get paid, we can't pay our rent."

"The Supreme Court asked exactly the right question: How do we preserve innovation?"

--Fred von Lohmann, attorney, Electronic Frontier Foundation

The justices spent considerable time exploring whether the case could be sent back to the district court to decide whether the file-swapping companies had actively "induced" computer users to trade copyrighted files--a tack that could let the justices avoid making any major revisions to copyright law.

Grokster attorney Richard Taranto said the issue of past "inducement" had not yet been litigated at the lower court level, and so was not in front of the Supreme Court. Hollywood lawyer Donald Verrilli said the top court should not let the lower court rulings stand, because they would undermine any further review of whether the peer-to-peer companies were actively encouraging piracy.

As with any Supreme Court hearing, the questions cannot serve as a predictor of a final ruling. But backers of the peer-to-peer companies took heart in the justices' focus on the danger to other technology developers.

"The Supreme Court asked exactly the right question: How do we preserve innovation?" said Fred von Lohmann, an Electronic Frontier Foundation attorney who represents StreamCast Networks. "How do we protect the innovator in a garage who's inventing the next iPod?"

But entertainment executives said that the court seemed to be looking for a way to protect copyrights.

"There was clearly discomfort with the conduct of Grokster," said Mitch Bainwol, chief executive officer of the Recording Industry Association of America.

Indeed, many legal observers say the high court is likely to leave the law largely as is, and leave any substantial changes to Congress

"I think the court is going to affirm (the lower-court rulings)," said , a copyright attorney with Manatt Phelps & Philips. "This doesn't fit in with the way copyright law is written. But it's not surprising that the law doesn't fit with something that didn't exist at the time the law was made."